However, against this backdrop, he said locally, Sri Lanka has been fortunate to achieve the resumption of GSP+ concession from the European Union and seen the first signs of China Belt and Road Initiative (BRI) centric investments in the country.

“It is appropriate that we deeply delve into areas such as trade, investments and services that will help drive turnaround of our economy, while also learning from successful companies and reforming our public sector bureaucracy to work more effectively to successfully face the emerging challenges,” Theagarajah added.

He also said that they have recognised the need for urgent public sector reforms to energise the bureaucracy and dedicated a separate session to bring together six leading chambers to identify common issues of national significance and engage the Government with one voice.

In compiling the findings, Theagarajah said they intend including the audience responses to specific session-based issues and present a summary of key outcomes to Prime Minister Ranil Wickremesinghe, who will deliver the closing remarks today.

Managing risks to unlock oppportunities

As changes around the world unravel themselves in the most unexpected manner, Standard Chartered Bank Mumbai Economics Research – Head South Asia Anubhuti Sahay cautioned that these uncertainties and risks associated with these changes will persist for years if not for decades, while insisting every economy including Sri Lanka will have to navigate through tough economic environment going forward.

She pointed out that it was therefore necessary to assess what are the likely sources of risks to better manage them effectively in order to unlock the existing opportunities as well as find new ones.

Two-dimensional change in the monetary policy of advanced economies, rising protectionism and productivity were outlined as three major shifts happening in the global economy.

Sahay underscored what it means for Sri Lanka and how the economy can navigate through these changes.

Pointing out that after the global financial crisis to support growth and markets the four major Central Banks, namely the US Federal Reserve, European Central Bank (ECB), Bank of Japan (JoP) and Bank of England (BoE), pursued an ‘ultra-lose’ monetary policy, which they are now trying to normalise by raising rates and reducing liquidity in the overall global markets, she said.

Given the pressure to increase US growth, analysts are expecting the Fed would continue to raise rates at least four more times till mid next year, resulting in liquidity flowing out from emerging markets and into developed countries.

However, on the other hand, Sahay noted that ECB was not hiking rates perhaps till the second half of 2019, but they were on a well-telegraphed path to bring in their liquidity injection plan by end of this year.

According to her, the major Central Banks had earlier injected $ 2 trillion on an annual basis to support markets and growth, which definitely helped emerging and developing markets including Sri Lanka. However, as Central Banks are now rolling back these policies, the liquidity injection has already halved in 2018 and will drop to zero in 2019.

“The shift is massive and the magnitude of this change is great. It is inevitable that it will have a massive impact on interest rates, currencies, foreign exchange across the world and increased financial volatility. The increasing high oil prices are also not helping much,” she added.

US-China trade tension

Noting that protectionism is not a new phenomenon, Sahay, however, said 2018 stood out because of the escalation in trade tension between the US and China. “It is unavoidable if these trade tensions actually culminate into a trade warm, and it will have massive impact on the global economy.”

Although it is difficult to quantify and give a number, according to their research findings, in an extreme case, if the US bans all imports from China, the US economic loss would account to 1% of the GDP, while China’s loss will be more than 3% of GDP.

Looking at this year and 2019, she asserted that more than the impact on the real economy, the bigger round of risks was going to come through financial markets via loss of confidence that would put more pressure on currencies and create additional problems for policymakers in the rest of the world.

Speaking on how these circumstances could impact Sri Lanka’s economy, Sahay emphasised economies with twin deficiencies such as Sri Lanka, in fiscal and current accounts, will get hurt the most.

Since over 50% of Sri Lanka’s fiscal deficit is currently financed through foreign inflows, and if the environment globally remains tough, she cautioned that extra funding to bridge the deficit and meet debt repayments could come at a “very expensive price”.

“If the Sri Lankan rupee depreciates by 5%, or crude oil increases by $ 10, it will reflect in escalated inflation. The current account and fiscal deficit will in turn become much wider and growth can suffer. It is likely to be a tough environment to go forward on the back of these vulnerabilities,” she added.

Importance of productivity

Although productivity doesn’t seem very relevant in the immediate context, Sahay highlighted that policymakers have to consider the importance of productivity in the long-term.

Supporting her argument further, she said that slower productivity gains constrain growth and has the potential to stagnate living standards, social frictions and lead to political pressures. She also pointed out productivity growth has reduced dramatically since the global financial crisis.

On Sri Lanka’s position in this scenario, she said the country was definitely in a much insulated position in South Asia, particularly in terms of human development indicators, high per capita income and low inequality levels. Nevertheless, the change in competitiveness over the past few years is a reason for Sri Lanka to stay concerned.

According to an analysis done based on the Global Competitive Index, which ranks a lot of economies focused on Asia between 2008 and 2018, she said the economy in Asia which lost maximum number of ranks was Sri Lanka. “The slower pace of reforms was a major cause as to why Sri Lanka lost out on growth. For that reason, there is a need to do a lot of catching up,” she added.

Despite the rising risks lingering on the global horizon, where it will further complicate policy choices, Sahay commended the efforts taken by the Government to rectify the structural challenges.

“The Government has already taken initiatives to take corrective measures with multilateral international organisations. Its effort towards enhancing or moving towards narrow fiscal deficits by enhancing revenues, not just by cutting on expenditure, is definitely noteworthy. The recent measures such as to link fuel prices to market prices and Central Bank inflation targeting regime by 2020 are key milestones,” she pointed out.

Insisting that a country seeking macroeconomic stability and sustaining growth is always an ongoing process, she said it was something Sri Lanka will have to go and do not only for this year, but for many more years to come.

In going forwards, she said Sri Lanka needs to diversify, leverage on its own strengths and streamline bureaucracy and framework.

“Sri Lanka has an enviable ranking when it comes to human development indicators, which need to be leveraged on – providing a more conducive environment for the private sector, linking various parts of the economy to attain macro stability, and to realise the full potential of the economy,” Sahay stated.

The road to reforms is never smooth for any country, but Sri Lanka is moving in the right direction even though it is not left with too many choices.

“We have always taken up reforms at the most difficult times, which gives me a lot of hope not only for Sri Lanka but also for many other countries that things will move in the right direction. We are no longer spoilt with too many choices,” Sahay stressed.

She believes if Sri Lanka continues on the path of fiscal consolidation and remains committed to reform efforts of the last couple of years, investor confidence could strengthen and remain with Sri Lanka.

Given Sri Lanka’s vulnerability on the current account deficit, low reserve position, and high debt repayments, Dr. Kvintradze said the economy needs to maintain adequate reserve cover and strengthen its reserve position further to deal with external shocks. Noting that the IMF’s Extended Fund Facility (EFF) program has been performing relatively well, she said they were currently conducting the fifth review, where $ 1 billion has already been disbursed and only one more review remains to complete the $ 1.5 billion program.

She believes introducing the new broad-based tax system and gradual fiscal consolidation which will be revenue based will help to reduce and manage overall debt. “This has to be supported by inflation targeting framework with a stronger reserve management, flexible exchange rate as well as transparent and accountable reforms, which should strengthen the economic governance,” she added.

Strong foundation

through EFF program

In addition, Dr. Kvintradze pointed out that this EFF helped Sri Lanka to lay a foundation for more predictable and stable macroeconomic management framework in the long-term, whereas previous IMF programs were only lasting 18 months. “Sri Lanka has just been using the facilities to put patches. There was no appetite for deep structural reforms before. This three-year EFF program helped to lay a strong foundation while it was also an opportunity for the country to introduce long-term reforms,” she stated.

In terms of trade, she said highly protected and regulated environment made Sri Lanka’s export structure to be frozen during the past 25 years.

“Sri Lanka, compared to other emerging markets, has more restrictive FDIs and trade regulatory environment. There is no space for competition and innovation. There are huge gains to be made if this environment is more open, less regulated and more predictable,” she pointed out.

She hoped that Sri Lanka knows where it was going, as it has set out very ambitious objectives to position itself as a global and regional hub for trade, development and innovation. However, she reiterated that it all depends how persistently the country implement these reforms.

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